The Bank of England's new Governor Mark Carney said the central bank will not consider raising its record low interest rate and stimuli until unemployment falls below 7%.
The ‘forward guidance’ strategy announced on Wednesday marks a change of policy for the Bank of England policy and a display of authority by Canadian born governor Carney.
With the current UK unemployment rate at 7.8%, the economy would need to create about 750,000 new jobs, something the bank feels won't happen until 2016, before the benchmark interest rate is increased from the current 0.5%.
Unveiling a tool he first used as governor of the Bank of Canada, Carney said it was exactly the time, to give such forward guidance — stressing that this was a critical moment for policymakers because the UK economy was still performing below par.
It is the weakest recovery on record, he said and deadpanned that records go back 100 years.
The bank joins the US Federal Reserve and the European Central Bank in providing guidance on its interest rate policies. Forward guidance has also been attributed in helping stimulate spending and economic growth in Canada.
Carney used simple language at a press conference to put over his ideas to the public, suggesting that if people know interest rates will remain low they will be more likely to borrow and thereby help stimulate the economy.
The 48-year-old Carney, who took charge on July 1, stressed that unemployment falling to 7% would not automatically trigger an increase in interest rates but would be a way station to reassess bank policy.
The bank chief also said there were several knockouts that would mean abandoning the forward guidance and the link between rates and unemployment. These include the bank's watchdog, the financial policy committee, deciding that monetary policy poses a threat to fiscal stability or if a bank two-year forecast shows inflation rising 0.5 percentage points or more above its target of 2%.
The bank chose employment, rather than output, as the best indicator for interest rates because the current level of low productivity in the UK indicates there is slack in the economy. This means that production can rise before employers need to hire more workers.
Carney said policymakers stand ready to stimulate the economy further. The bank has pumped 375 billion pounds into the economy since January 2009 with a bond-buying program meant to revive national fortunes and said it has no plans to scale back its program while unemployment remains above 7 per cent.
Saying that a renewed recovery is now underway but that the UK economy has not yet reached escape velocity, Carney also downgraded inflation forecasts by saying the bank does not expect inflation to rise above 3% this year.
Carney is the first foreigner to head the 319-year-old bank and was hired by the UK Treasury chief George Osborne to find more ways to inject confidence into the markets and get Britain moving.